Economic Research Forum (ERF)

The economic and social transformation of the Middle East and North Africa

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The crises that began with the Arab revolts signal the urgent need for economic and social transformation in the Middle East and North Africa. Yet there has been near universal failure to implement the structural reforms required to transform hidebound, state-dominated economies into modern ones that embrace technology and recognise the salutary impact of competition and private enterprise. This column outlines what has to change.

In a nutshell

MENA countries need to carry out a consistent set of reforms and ensure that these reforms are underpinned by the strong approbation of the broader citizenry, especially the youth.

To strengthen their economies and provide the groundwork for a new internationally competitive job market, MENA countries should act on two fronts.

First, they must promote a new digital economy; and second, they must encourage development of the private sector by reducing the size of utilities and other state-owned enterprises.

Nearly eight years after the Arab revolts, the Middle East and North Africa (MENA) region is at a crossroad. While both the so-called Arab Spring and the persistent oil price collapse signalled the urgent need for economic and social transformation, the reforms and the associated social cohesiveness needed to bring about such a transformation have yet to be consistently pursued. MENA economies must soon seize the moment if they are to create a new reality for the youth.

To be sure, the uncertainty caused by the Arab revolts and the collapse in oil prices that persisted for several years led to reduced growth and fiscal imbalances that forced countries to focus on short-term measures, pushing aside any long-term initiatives. The need to confront short-term problems over long-term problems was clear, and the problems were widespread. Even oil importers were hurt by lower petroleum prices because reduced capital flows, remittances and grants from oil exporters in the region often offset the lower fuel bills.

Macroeconomic policies – including exchange rate and fiscal adjustments – helped to restore internal and external balances in some countries (mainly those that had built buffers during good times) and the rise in oil prices over the last few years has helped exporters while derailing importers.

But the crises that began with the Arab revolts resulted in a near universal failure to implement the long-term ‘structural’ reforms required to transform hidebound, state-dominated economies into modern ones that embrace technology and recognise the salutary impact of competition and private enterprise. There has been much talk about structural reforms but rather limited cohesive commitment to action.

Structural reforms are crucial in MENA countries. The difficulty that firms face in entering markets is an overwhelming reason for the longstanding anaemia of MENA economies and the job-poor growth in the region. Indeed, nearly every country – whether importer or exporter of hydrocarbons – has varying degrees of impenetrable market structures, which hinder the millions of young people attempting to enter the formal labour market to get decent paying jobs.

In most MENA countries, nearly all important businesses are state-owned, including banks, and the apparatus to promote competition and antitrust is in its infancy in most countries. The barriers to entry (or, in economic parlance, lack of contestability) also help to explain why most people work in the informal sector – at low pay and without social insurance.

There is no time for complacency, considering the rising aspirations of the region’s fast-growing and increasingly educated youth population. MENA countries need to carry out a consistent set of reforms and ensure that these reforms are underpinned by the strong approbation of the broader citizenry, especially the youth. To strengthen their economies and provide the groundwork for a new internationally competitive job market, MENA countries should act on two fronts.

They must promote a new digital economy and encourage development of the private sector by reducing the size of utilities and other state-owned enterprises – which are both an important source of contingent liabilities for the state and which crowd out the private sector by inefficiently absorbing labour and credit.

To promote a digital economy, the authorities in the MENA region must undertake extraordinary efforts – a ‘moonshot’ – to overcome such hindrances as limited broadband quality, unaffordability of the internet, and nearly non-existent digital and mobile payment systems. These digital public goods are as important to the new economy as traditional utilities, such as electric power plants, are for the traditional economy.

The lack of connectivity essential to a digital economy is often the result of stifling or outdated regulation or the lobbying power of incumbent firms, which enables them to exclude new entrants. Enhanced internet and e-payment connectivity will help the economic empowerment of youth, by expanding their internet use from primarily social media to digital payment gateways and help set up ventures and enlarging their market online. Increased connectivity will also allow an increase in the scope and efficiency of service delivery in health and education-including regions where service is the worst.

To promote development of the private sector, authorities in the MENA region must take steps to reduce barriers to entry in the utility sector and other sectors in which state-owned enterprises operate. A competition regulator should credibility and independently enforce that contestability.

The authorities also must act to enhance (corporate) governance of these organisations to achieve, among other things, managerial independence, accountability and efficiency. Indeed, the region is, for the most part, the last of the transition economies where state-owned enterprises constitute a large portion of the economy but are far from the technology frontier and constitute an important source of contingent liabilities for the state – a liability that arises when say a public guarantee is activated.

To make a technological jump and do better with fewer resources, authorities need to encourage renewed private sector participation through such avenues as public-private partnerships with public companies that have improved management and accountability.

ENEL, the Italian multinational manufacturer and distributor of electricity and gas, is a good example of the type of transformed state enterprise that would be a good partner with a private company. After the electricity sector was liberalised in Italy, ENEL went from being a ‘traditional’ public utility to being the ‘Google of energy’, investing massively in energy generation and digitalisation of services. Utilities in the region should become digital platforms and recognise data (and analytics) are the new oil.

Importantly, governments in MENA must engage their populations to gain support for structural reform with a renewed knowledge strategy and an enhanced social protection scheme. That strategy needs to come from greater openness on data to allow experts to conduct research to inform citizens.

Increasing analytical capability in government – including by working more closely with universities – will also reduce the aversion that authorities often have to undertaking reforms. Setting stronger standards on data and enticing debate on economic issues will support evidence-based policy-making, and clear recognition of policy risks, and allow governments to push through reforms.

Finally, a transformed economy will mean more risk-taking by citizens. To facilitate broader risk-taking, the welfare state must be revamped and its benefits extended to all individuals – whether in the formal or informal sector. An enhanced social protection system will reduce the individual (ex-ante) distributional uncertainty associated with reforms and facilitate their roll out.

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